The granularity of growth
The granularity of growth
A fine-grained approach to growth is essential for making the right choices
about where to compete.
Mehrdad Baghai, Sven Smit,
and S. Patrick Viguerie
What are the sources of corporate growth? If, like many executives,
you take an average view of markets, the answers may surprise you:
averaging out the different growth rates in an industry’s segments and
subsegments can produce a misleading view of its growth prospects.
Most so-called growth industries, such as high tech, include subindustries
or segments that are not growing at all, while relatively mature industries, such as European telecommunications, often have segments that are
growing rapidly. Broad terms such as “growth industry” and “mature
industry,” while time honored and convenient, can prove imprecise or even
downright wrong upon closer analysis.
Our research on the revenue growth of large companies suggests that
executives should “de-average” their view of markets and develop a granular perspective on trends, future growth rates, and market structures.
Insights into subindustries, segments, categories, and micromarkets are the
building blocks of portfolio choice. Companies will find this approach to
growth indispensable in making the right decisions about where to compete.
These decisions may be a matter of corporate life and death. When we
studied the performance of 100 of the largest US corporations in
17 sectors during the two most recent business cycles, a pair of unexpected
findings emerged.
41
The McKinsey Quarterly
42
Article at a glance
A large company’s top-line growth is driven mainly
by market growth in the subindustries and
product categories where it competes and by the
revenues it purchases when it acquires other
companies, according to a growth analysis of more
than 200 companies around the world.
The gain or loss of market share explains only
around 20 percent of the difference in the growth
performance of companies.
Executives should identify and allocate resources
to fast-growing segments in which a company has the
capabilities and resources to compete successfully.
To make the right portfolio choices, executives
should benchmark the growth performance
of a company and its peers on a segment level.
Related articles on
mckinseyquarterly.com
The first was that top-line growth
is vital for survival. A company
whose revenue increased more
slowly than GDP was five times
more likely to succumb in the next
cycle, usually through acquisition,
than a company that expanded
more rapidly. The second, suggesting the importance of competing
in the right places at the right
times, was that many companies
with strong revenue growth and
high shareholder returns appeared
to compete in favorable growth
environments. In addition, many
of these companies were active
acquirers.1
To probe deeper into the mysteries
of what really drives revenue
“Extreme competition”
growth, we have since disaggregated, into three main components, the recent growth history of
more than 200 large companies around the world. The results indicate
that a company’s growth is driven largely by market growth in the
industry segments where it competes and by the revenues it gains through
mergers and acquisitions. These two elements explain nearly 80 percent
of the growth differences among the companies we studied. Whether a company gains or loses market share—the third element of corporate growth—
explains only some 20 percent of the differences.
“Beating the odds in market entry”
“Strategy in an era of global giants”
At first blush, our findings seem counterintuitive. They demonstrate that
although good execution is essential for defending market share in fiercely
contested markets, and thus for capitalizing on the corporate portfolio’s
full-market-growth potential, it is usually not the key differentiator between
companies that are growing quickly and those that are growing slowly.
These findings suggest that executives ought to complement the traditional
focus on execution and market share with more attention to where a
company is—and should be—competing.
Going beyond averages to adopt a granular perspective on the markets
is essential for any company as it shifts its portfolio in search of strong
1
Sven Smit, Caroline M. Thompson, and S. Patrick Viguerie, “The do-or-die struggle for growth,”
The McKinsey Quarterly, 2005 Number 3, pp. 34–45.
The granularity of growth
growth, as this article will explain. It will also argue that a fine-grained
knowledge of the drivers of the company’s past and present growth, and
of how these drivers perform relative to competitors, is a useful basis
for developing growth strategies. To that end we will present the findings
of two diagnostic tools: one that enables companies to benchmark their
growth performance on an apples-to-apples basis with that of their peers,
and one that disaggregates growth at a segment level.
Growth in a granular world
Telecommunications in Europe is often described as a mature industry. But
though revenues at ten large European telcos rose by an average of
9.5 percent a year from 1999 to 2005, we found that individual companies
expanded by 1 to 25 percent annually. How could this be?
The most important reason is that European telcos make different portfolio
choices so that they have varying degrees of exposure to different segments with different rates of growth. Wireless grows faster than fixed line,
for example, and the growth rates of each vary widely by country. In
addition, these companies have different levels of exposure to fast-growing
markets outside Europe.
In industries with higher overall growth, the same kind of variation
is apparent. The annual growth rates of a representative set of large hightech companies, for instance, ranged from –6 to 34 percent from 1999
to 2005.
In fact, the companies in our 200-strong database that outperformed their
peers on top-line growth and shareholder value from 1999 to 2005 compete
in industries—construction, consumer goods, energy, financial services,
high tech, retailing, and utilities—with different rates of overall growth. No
matter which industry they competed in, however, the average market
growth of their portfolios outperformed that of their peers. This fact suggests
that they tend to outposition their industry competitors in high-growth
segments. The portfolios of outperforming utilities, for example, enjoyed
growth momentum that was two percentage points higher than the overall
industry did. Indeed, when we compared the growth rates of industries with
the growth rates of the companies in our database, we could explain
why some grew faster than others only by zooming in and taking a granular
view of subindustries and product categories by continent, region, and
country (see sidebar, “A fine-grained view”).
These findings should encourage companies in industries with slow overall
growth. Seeking growth is rarely about changing industries—a risky
proposition at best for most companies. It is more about focusing time and
43
The McKinsey Quarterly
A fine-grained view
Which market levels must executives explore when
they develop a company’s portfolio strategy?
To find out, we tested the extent to which industry
growth rates correlate with the growth rates of
companies at five levels of market granularity, which
we call G0 to G4.
$3.5 trillion. When we plotted the growth
of industries and companies, we saw no obvious
correlations. This supports our point that talk
of “growth industries” is meaningless. The growth
rates of different industries vary from approximately
2 to 16 percent—far less than the spread at the
company level, which ranges from –13 percent to
48 percent (exhibit).
G0: the world market. Over the past 20 years,
the world economy has grown by roughly 7 percent
a year. By 2005, its total output had reached
$81.5 trillion. This is the global pie. Global GDP
growth is the yardstick used to measure the growth
performance of companies.
G2: industries. The GICS breaks down the sectors
into 151 industries; the food, beverages, and
tobacco sector, for instance, becomes three
separate industries. These 151 industries—more
Q2 2007
granular than the sectors but still huge—have
G1: sectors. The Global Industry Classification
Growth
an average size of around $500 billion. At the G2
Standard 3(GICS)
up theexhibit)
global economy into
level, differences in the portfolio exposure of
Exhibit
of 3 carves
(Sidebar
sectors,
such
as
energy
and
capital
goods.
companies
more ofat
thethe
variation
in
Glance: The growth rate of different industries varies
far lessexplain
than little
the spread
company
On average, these groups have a market size of
organic top-line growth than they did at the G1 level.
level.
exhibit
A greater spread at the company level
Compound annual growth rate (CAGR) for selected companies by industry,1 1999–2005, %
Industries2
1 company
55
1
•
Household and personal products
2
•
•
•
•
•
Banks
Capital goods
Food, beverages, and tobacco
Retailing
Technology hardware and equipment
3
•
•
•
Automobiles and components
Commercial services and supplies
Media
4
•
•
•
5
•
Insurance
6
•
•
•
•
Consumer services
Food and staples retailing
Materials
Software and services
7
•
Health care equipment and services
8
•
Semiconductors and
semiconductor equipment
9
•
Energy
6
45
Company growth (organic)
44
3
35
9
4
25
2
7
15
8
5
1
5
–5
–15
0
3
6
9
12
15
Industry2 growth
1 207 representative companies selected from total
2 Industry group classifications by Global Industry
International (MSCI) and Standard & Poor’s.
18
Consumer durables and apparel
Diversified financials
Pharmaceuticals, biotechnology,
and life sciences
• Telecommunications services
• Transportation
• Utilities
for readability.
Classification Standard (GICS), developed by Morgan Stanley Capital
Source: Global Insight; Global Vantage; Thomson; McKinsey analysis
The granularity of growth
G3: subindustries. Now it gets interesting. Our
growth database builds on the finest level of data
that companies report to the markets, so we can
look at subindustries, and sometimes at broad product categories, divided by continents, regions,
or, in certain cases, countries. Examples of subindustries within the food industry include frozen
foods, savories, edible oils, and dressings. At
the G3 level, the world market has thousands of segments ranging in size from $1 billion to $20 billion.
The growth rates of these segments explain nearly
65 percent of a typical company’s organic topline growth; in other words, at this level market
selection becomes more important than a company’s
ability to beat the market. That point supports
our finding that the composition of a portfolio is the
chief factor in determining why some companies
grow faster than others.
G4: categories. In a few cases we have been able
to use internal company data to dig deeper and
explore categories within subindustries (such as
ice cream within frozen packaged foods) or
customer segments in a broad product or service
category (such as low-calorie snacks). At this
level of granularity the world economy has millions
of growth pockets that range in value from
$50 million to $200 million. Our analysis found that
a company’s selection of G4 segments often
explained its organic growth even better than the
G3 segments did. This is the level of granularity
on which companies must act when they set their
growth priorities—and the level on which
they must make the real decisions about resource
allocation.
resources on faster-growing segments where companies have the capabilities,
assets, and market insights needed for profitable growth.2
To make granular choices when selecting markets, management teams must
have a deep and similarly granular understanding of what drives the
growth of large companies and, in particular, of their own company and its
peers. They can use the resulting growth benchmarks when they plan
their portfolio moves. One thing they are likely to learn from the benchmarks
is to avoid making unrealistic assumptions about a company’s chances
of consistently gaining market share.
Disaggregating growth
The growth profiles of companies began to emerge when we broke down
their growth into three main organic and inorganic elements that measure
positive and negative growth.
•
2
Portfolio
momentum is the organic revenue growth that a company
achieves through the market growth of the segments represented in its
portfolio. The company can influence the momentum of its portfolio
Our analysis suggests that chasing revenue growth for growth’s sake alone, at the expense of profitability,
generally destroys shareholder value.
45
The McKinsey Quarterly
46
in several ways. One is to select acquisitions and divestments, which
affect the company’s exposure to underlying market growth. Another is to
create market growth—for instance, by introducing a new product
category. Portfolio momentum (including currency effects) is in a sense a
measure of strategic performance.
• M&A
is the inorganic growth a company achieves when it buys or sells
revenues through acquisition or divestment.
•
Market
share performance is the organic growth a company records by
gaining or losing a share of the market. We define market share by the
company’s weighted-average share of the segments in which it competes.
Beyond the averages
Our growth analysis of ten large European telcos revealed the relative
importance of these growth elements for the companies as a group. It also
showed how individual companies differed widely in their performance
on each element.
Portfolio momentum was by far the biggest growth driver for the group
Q2 a2007
as
whole, followed by M&A . Market share performance made a negative
Growth
contribution. When we looked beyond the averages, a more nuanced
Exhibit 1 emerged.
of 3 (including
sidebar exhibit)
picture
Individually,
these companies’ range of performance on
Glance:
The
range
of
performance
on
the
three growth
drivers
the three growth drivers was startling:
from
2 towas
18 startling.
percent annual
exhibit 1
A wide range
Compound annual growth rate (CAGR) of revenues for 10 large European telcos,1 1999–2005, %
Range
Average
–10
Growth by component
Portfolio momentum
0
5
7.1
10
15
2 to 18
M&A2
3.0
Market share performance
–0.6
Total growth
–5
–2 to 13
–6 to 5
9.5
1 Based on local currency; companies with headquarters in European Union.
2 Includes impact of changes in revenue base caused by inorganic activity and
1 to 25
share gain/loss.
Source: Analyst reports; company reports; Dealogic; Global Insight; Hoover’s; McKinsey analysis
20
25
The granularity of growth
growth for portfolio momentum, from –2 to 13 percent for M&A , and
from –6 to 5 percent for market share performance. Clearly, companies
in the same sector grow not only at different speeds but also in different
ways (Exhibit 1).
What about market share?
To probe the sources of growth for the average company in any sector, we
took the data on all of the companies in our database and broke down
their average performance into the three growth elements. We found that
of the overall 8.6 percent top-line annual growth that the average large
company achieved from 1999 to 2005, 5.5 percentage points came from the
market growth of the segments in its portfolio, 3.0 from M&A activity,
and a marginal 0.1 from market share performance.
The negligible role of average market share performance—both gains and
losses—wouldn’t be surprising if markets included only these 200 large
companies. But what about the smaller companies that are commonly seen
as growing more quickly and gaining share from incumbents?
Perhaps new entrants and other small and midsize companies redefine
categories, markets, and businesses rather than capture significant market
share from incumbents. There are differences among countries, however.
Our analysis suggests that over time the average large company loses a bit
of market share in the United States but gains a bit in Europe. Although
we haven’t analyzed this phenomenon in detail, we believe that the dynamism
of the US market allows young companies to challenge incumbents to a
greater extent than they can on the other side of the Atlantic.
We found it more interesting to go beyond the averages and explore the
differences in the growth performance of large companies. The results
show that portfolio momentum, at 43 percent, and M&A , at 35 percent,
explain nearly four-fifths of them; market share is just 22 percent. To put
the facts another way, a company’s choice of markets and M&A is four times
more important than outperforming in its markets. This finding comes
as something of a surprise, since many management teams focus on gaining
share organically through superior execution and often factor that goal
into their business plans.
Not that managers can afford to neglect execution. On the contrary,
catching the tailwind of portfolio momentum requires a company to maintain its position in the segment, and this in turn hinges on good or even
great execution—particularly in fast-growing segments that tend to attract
innovative or low-cost entrants.
47
The McKinsey Quarterly
48
The key point is that averages can be deceptive, so we dug deep into our
database to see if a more granular story on market share performance would
emerge. We did find a number of share gainers and losers, at the corporate (and particularly the segment) level. But we also discovered that few
companies achieve significant and sustained share gains and that those
few tend to have compelling business model advantages.
A valid question is whether sectors (with their different rates of growth)
differ in ways that might affect the importance of market share. We found
that market share performance explained 14 to 23 percent of the difference in the growth performance of companies in seven of the eight industries we analyzed. It was significantly more important, at 37 percent,
only in the high-tech industry, where short product life cycles and generally
higher growth headroom make market share shifts more common.
Linking growth and shareholder value
The detailed growth and value creation histories in our database let us
analyze the growth drivers—portfolio momentum, M&A , and market share
performance—and identify correlations between their roles for revenue
growth and value creation.3 Not surprisingly, companies that outperform
on the growth drivers increase their revenues faster than the underperformers do,4 and the more drivers they outperform on, the faster they grow.
It’s more intriguing that outperformance on revenue growth is correlated
with the superior creation of shareholder value. We defined four levels
of performance for benchmarking purposes: exceptional, great, good, and
poor. The threshold for differentiated performance appears to be outperforming on one growth driver while not underperforming on more than
one. Slightly more than half of the companies in our sample did both and
achieved average annual total returns to shareholders (TRS) of 8 percent
and revenue growth of 11 percent, which we define as good performance.
Companies that outperformed on two dimensions or that outperformed on
one at top-decile levels without underperforming on more than one—nearly
15 percent of the sample—did even better, achieving great performance.
Only four companies, which chalked up exceptional revenue growth and
shareholder returns, outperformed on all three growth drivers. Companies
that did not outperform on any driver or underperformed on more than one
performed poorly, with TRS of only 0.3 percent.
3
Our analysis covers a six-year period that we used to compare detailed segment performance year over
year, so we couldn’t look at the very long term. However, we can compare revenue growth with at least shortto medium-term trajectories of total returns to shareholders.
4
We define outperformance as the attainment of a growth rate in the top quartile of the sample for a particular growth driver. We define underperformance as the opposite: performance in the sample’s bottom
quartile. Quartiles two and three (the middle ones) are neutral—neither outperforming nor underperforming.
The granularity of growth
Management would do well to step back and assess a company’s performance, at the corporate level, on each of these drivers, for they are actionable, and the evidence shows that the more of them companies outperform
on, the more those companies have been rewarded. It might also be wise
to scrutinize a company’s peers to find out which growth drivers, if any,
they outperform on, and in which parts of their businesses. Such knowledge
can be the starting point of a useful benchmarking discussion about the
company’s growth performance and potential.
Scanning for growth opportunities
Getting a detailed sense of the growth performance of a company involves
Q2 2007 how well it is performing on each of the three growth drivers
judging
Growth
at
the segment level. By analyzing this information in the context of the
Exhibit
2 of 3market
(including
sidebar and
exhibit)
company’s
position
capabilities, its management team
Glance:
Analysisaofperspective
growth by segment
or region
can reveal strengths
and weaknesses
in a
can
develop
on future
opportunities
for profitable
growth.
company’s portfolio.
exhibit 2
A detailed picture
Disguised example of growth for GoodsCo, a multinational consumer goods company, 1999–2005
Growth1
Exceptional (not achieved
by any segment)
Revenue share
By region
Great
North America
62%
Good
Europe
24%
Poor
Asia-Pacific
7%
Latin America
5%
Africa, Middle East
2%
Total
100%
By product
category,2 %
A
18
14
B
C
13
D
11
E
9
F
8
G
6
H
6
I
4
J
4
K
4
L
2
Total
100%
1Exceptional = outperforming on all 3 growth drivers; great = outperforming on 2 growth drivers or outperforming on 1 growth
driver at top-decile level without underperforming on more than 1; good = outperforming on 1 growth driver without underperforming on more than 1; poor = underperforming on 2 or more growth drivers or not outperforming on any.
2Figures do not sum to 100%, because of rounding.
49
50
The McKinsey Quarterly
Consider the disguised case of GoodsCo,
a multinational consumer goods corporation. Our disaggregation of its growth
at the corporate level revealed that it
delivered stable, albeit slow, growth from
1999 to 2005. M&A drove almost all of the
company’s growth in the United States,
however; in Europe positive exchange
rates propelled modest growth. Organic
revenues rose strongly only in emerging markets, such as Africa, Latin America,
and the Middle East. In fact, the North
American and European markets that made
the largest contribution to the company’s
revenues were in the bottom quartile for
our full sample of companies.
The story gets more precise as we disaggregate the company’s performance
on the three growth drivers in 12 product categories for five geographic
regions. No fewer than 27 of the 47 segments the company competes in register as poor in terms of their performance on our three growth drivers.
Unfortunately, these segments represent 87 percent of GoodsCo’s sales. On
the positive side, 20 segments are good or great, but they make up only
the remaining 13 percent of sales. And although a promising growth story
is developing in Latin America in most segments, the business is performing poorly in its core ones in Europe and North America. It cannot
claim exceptional performance in any segment. GoodsCo has a portfolio
problem (Exhibit 2).
Once all the cards are on the table, GoodsCo’s managers will be in a better
position to make well-informed portfolio choices. The pros and cons
of acquiring businesses—or expanding organically by exploiting positive
market share performance—in segments where GoodsCo enjoys strong
portfolio momentum will probably be high on the top team’s agenda.
Another issue might be whether to seize divestment opportunities in segments where the company’s portfolio momentum is good, though the
company is losing market share. A third could be whether to acquire a company (and so build portfolio momentum) in lackluster segments where
GoodsCo’s management expects market growth to improve significantly.
The granularity of growth
The growth of segments within industries correlates closely with the
differing profiles that emerge when we disaggregate the growth of large
companies. This suggests that executives should make granular choices
when they approach portfolio decisions and allocate resources toward businesses, countries, customers, and products that have plenty of headroom
for growth.
Q
The authors would like to thank their colleagues in McKinsey’s strategy practice—
particularly Martijn Allessie, Angus Dawson, Giovanni Iachello, Mary Rachide,
Namit Sharma, Carrie Thompson, and Ralph Wiechers—for their contributions to the research
underlying this article.
•
Mehrdad Baghai is an alumnus of McKinsey’s Toronto and Sydney offices,
Sven Smit is a director in the Amsterdam office, and Patrick Viguerie is a director in the
Atlanta office. Copyright McKinsey & Company.
All rights reserved.
51